Abstract

Practitioners of real estate investment analysis in Singapore are familiar with the use of both the conventional residual valuation (RV) method and the discounted cash flow (DCF) analysis in their evaluations of development projects. However, RV method is more commonly use in land price estimation for local projects mainly due to the relatively short investment horizon of typical development period of only two to three years for most projects, i.e. DCF analysis seemingly become unnecessary.

Collective sales, where owners band together to sell their properties in a development en-bloc to a developer for re-development, have been confined to small and medium size freehold land in the past. Recently, more 99-year leasehold sites have become feasible for collective sales and they are large land plots and the scale of development is expected to be huge, ranging from several hundred potential new units to about 2,000 units per site.

With the long gestation period of acquiring a collective sale site and the length of development associated with these large 99-year land plots, developers would be exposing themselves to greater risk due to longer investment horizon. It is therefore necessary for developers and analysts to consider the use of DCF analysis for their local projects in order to better assess and manage risk of the projects.

The results of the RV and DCF analyses of a case study evaluating the effect of changes in expected returns due to changing market risk show that the DCF model provides a higher range of Ã�Â�Ã�Â�Ã�Â�Ã�Â¢Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�most probableÃ�Â�Ã�Â�Ã�Â�Ã�Â¢Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â�Ã�Â� land price estimates than the RV method within the set assumptions.

With the adoption of DCF model and hence a better understanding of the interplay of the various parameters and their sensitivity towards land price estimation, developers would be more confident of becoming competitive in their tender bids with good justifications rather than relying on gut feel when come to the crux of decision-making at the crucial moment of land tenders.